Macroeconomic Impact

An important impact of federal spending on the Iraq and Afghanistan wars has been to raise the nation’s indebtedness. The increased military spending following 9/11 was financed almost entirely by borrowing. Rising deficits have resulted in higher debt, a higher debt-to-GDP ratio, and higher interest rates.

A good indicator of the sustainability of government spending is the ratio of federal debt held by the public to national income, or gross domestic product (GDP). This ratio increased by almost 37 percentage points between 2001 and 2011.

Between a quarter and a third of this increase in federal indebtedness is due to war spending: by the end of 2011, deficit spending on the wars had raised the ratio of debt to GDP by about 10 percentage points.

Financing the wars through debt requires interest payments as well. The US paid about $200 billion in interest on war spending during the first decade of the wars. If war spending continues as forecast by the CBO, the country can expect to have paid about $1 trillion in interest by 2020.

Deficit spending also has an effect on interest rates themselves. Long-term interest rates are currently about 35 basis points above what they would have been with no war spending.

Key Findings

Interest rates charged to borrowers tend to move one-for-one with interest rates on government securities. An increase of 35 basis points would cost new homeowners an extra $600 per year.

Extra household income attributable to war spending has been partially offset by the negative macroeconomic consequences of increased deficits and debt used to finance the wars.

Recommendations

Congress should routinely ask the CBO to provide cost forecasts for potential future conflicts. These forecasts should account for all macroeconomic impacts of war spending on the domestic economy and on government debt.